chapter 3 Flashcards
what is the theory of consumer behaviour?
how consumers allocate income differently goods and services to maximize their well-being and utility
what do consumers do in the market?
they make decisions
what does consumer behaviour create?
the base for demand
what are the 3 consumption decisions in consumer behaviour?
consumer preferences
budget constraints
consumer choices
what assumption do we make about economic agents?
they are rational and have goals and will make decisions to enable them to reach those goals
what is a market basket (or bundle)?
a list of specific units of one or more goods
what part do preferences play for consumers?
they play a part in their final decision
what are the 3 basic assumptions about consumer preferences?
completeness
transitivity
more is better than less
what is the assumption “completeness”?
that preferences are assumed to be complete and consumers can always compare and rank all possible baskets, what ones the like more or if they are indifferent
what is the assumption “transitivity”?
if a consumer prefers basket A to basket B and basket B to basket C, then the consumer also prefers A to C
what is the assumption “more is better than less”?
goods are desirable and they always want more, so bundles with more goods are better than bundles with less
what is an indifference curve?
they represent all combinations of market baskets that provide a consumer with the same level of satisfaction
what is an example of an indifference curve?
if 3 bundles are on the same indifference curve, than the consumer would be equally satisfied with any of those bundles
if there are multiple indifference curves, what one is more preferred?
the right most one, it will provide the most goods
can indifference curves intersect?
no
why can’t indifference curves intersect?
because it will violate the transitivity theory, if 2 indifference curves cross, bundle A at the intersection of the curves, B on the higher curve and C on the lower curve. A and B are considered equal, A and C are equal so that also means B and C are equal even though B has more of both goods than B
what do indifference curves represent?
they represent all the bundles that provide consumers with the same utility
what does the magnitude of the slope (how drastic is is) of an indifference curve measure measure?
it measures the consumers marginal rate of substitution between 2 goods
what is the consumers marginal rate of substitution (MRS)?
how much of one good they are willing to give up for one additional unit of another good
when is the marginal rate of substitution high?
when the consumer is has a lot of one of the goods, they are willing to substitute a lot of the good they have a lot of for the good they do not have a lot of
what causes the marginal rate of substitution to diminish?
as the consumer gets more of the good he didn’t have and less of the good he had lots of
what are the 2 extreme cases of marginal rate of substitution?
perfect substitutes
perfect compliments
what are perfect substitutes?
when the consumer will trade the same amount of one good for the same amount of other goods, at a constant rate no mater how much of the good he has he will always trade it for the same amount of the other good
what is an example of perfect substitutes?
if the consumer is always willing to trade the amount of glasses of apple juice he has for the same amount of orange juice glasses
what are perfect complements?
when the 2 goods marginal rate of substitution is zero or infinite, and need both for the other good to have utility
what is an example of perfect complements?
left shoes and right shoes, you need both for the other one to provide you with utility, you always need a pair
what is the budget constraint?
a constraint that consumers face as a result of limited income
what is the budget constraint equation?
I= Price of food X quantity of food + price of clothes X quantity of clothes
their income must equal what they consume
what does the budget constraint line show?
all baskets on the line shows all the combination of goods (baskets) where the total amount of money spent is equal to their whole income, and everything under the line they can afford everything above they cannot afford
do preferences take income or prices in to account?
no they do not, the preferences are just based on satisfaction
what is the consumption set?
all bundles beneath the budget constraint line and therefore the set of all bundles of goods for consumption given their budget
what is the slope of the budget constraint?
the ratio of the prices of good 1 and good 2,
what causes the budget constraint line to shift?
changes in income and the prices of goods holding constant
what causes the budget constraint line to shift to the right?
an increase in income with prices remaining constant, they can afford more baskets now
what causes the budget constraint line to shift to the left?
a decrease in income with prices remaining constant, they can afford less bundles
what causes the budget constraint line to pivot?
a change in the prices of one good with income unchanged
what causes the budget constraint line to pivot further away from the axis?
a decrease in prices of one good and can now afford more bundles with more of that cheaper good (refer to January 14th slide 10)
what causes the budget constraint line to pivot closer the the axis
an increase in prices of one good, now can afford less bundles with that expensive good (refer to January 14th slide 10)
how can you maximize consumer satisfaction under a budget constraint?
you would pick the basket on highest indifference curve that is still within your budget (under or on the budget constraint line)
when consumers are trying to maximize their utility, what baskets will they typically consume?
they will consume bundles on the budget constraint line because they are wanting to maximize satisfaction
what does it mean when the slope of the indifference curve and the slope of the budget constraint line are matching up?
that is where you are maximizing utility, the marginal rate of substitution is equal to the price ratio, they are the most satisfied with the goods and maximizing their budget
does preferences take the consumes budget in to account?
no
what are the 2 things the budget line defines?
the consumption set
the budget constraint
why do indifference curves slope downwards?
because when the consumer has a lot of one good and not a lot of another they are willing to give up more of the good they have for the other, but as they gather more of the scarce good and lose the good they had lots of, they are willing to give up less of the good in exchange for the other
